THE TAX LAWS that ELFA members will face in the coming years are uncertain; the only thing for sure is that they will change. As of press time, we know that the Biden Administration believes that the corporate tax rate should go up and would like it to rise to 28% from the current 21%. We also know that there are discussions of a variety of other tax increases, from raising the top individual marginal rate, which small businesses also pay taxes under, to scheduled changes to the complex tax rules for large multinational corporations. Additionally, many are discussing raising the gas tax, but potentially more dramatic would be reforming the gas tax to reflect miles driven to capture the increased use of electric cars. Lastly, there have also been discussions of new types of taxation ranging from financial transaction taxes to value added taxes to a tax on carbon. Many of these additional revenues are being discussed in the context of paying for infrastructure that could be a boon for investment in a wide variety of equipment verticals.
Tax-savvy ELFA members know that future tax rates can dramatically change the economics of a transaction. In the equipment finance industry, we always remember that while tax increases are never welcome, they do have a silver lining in that they make deductions more valuable. The value of deductions can lead to important behavioral changes for companies that do the math before they make an acquisition. After the Tax Cuts and Jobs Act was passed in 2017, the corporate tax rate became 21%, a 14-percentage point drop from the historical rate of 35%. This made a $100,000 tax deduction worth $21,000 whereas the year before it had been worth $35,000. We know that in the years following there was a higher propensity to use cash for acquisitions. While it’s probably not correct to ascribe this entire phenomenon to the lowering of the tax rate, it’s also naïve to think that it didn’t play a large role.
Looking forward, how should an ELFA member plan for this uncertain tax environment? First, identify what we do know. We know that, absent congressional action, the ability of businesses to deduct interest is going to become more limited starting next year. Additionally, 100% expensing is scheduled to become 80% in 2023, 60% in 2024, and so on until it phases out. These scheduled changes could be modified, but it’s costly to the government to do so. Do these provisions affect you? Do they affect your customers?
In closing, while taxes deservedly get a lot of discussion for the role that they play in acquisitions, most acquisitions are completed because the customer simply needs the equipment, and the tax implications are largely irrelevant to that decision. It’s also important to remember that even if tax increases occur, if they are used to fund infrastructure, there are opportunities at play in those verticals. Wise ELFA members will certainly be there to take advantage of those opportunities.
Tax-savvy ELFA members know that future tax rates can dramatically change the economics of a transaction. In the equipment finance industry, we always remember that while tax increases are never welcome, they do have a silver lining in that they make deductions more valuable. The value of deductions can lead to important behavioral changes for companies that do the math before they make an acquisition. After the Tax Cuts and Jobs Act was passed in 2017, the corporate tax rate became 21%, a 14-percentage point drop from the historical rate of 35%. This made a $100,000 tax deduction worth $21,000 whereas the year before it had been worth $35,000. We know that in the years following there was a higher propensity to use cash for acquisitions. While it’s probably not correct to ascribe this entire phenomenon to the lowering of the tax rate, it’s also naïve to think that it didn’t play a large role.
Looking forward, how should an ELFA member plan for this uncertain tax environment? First, identify what we do know. We know that, absent congressional action, the ability of businesses to deduct interest is going to become more limited starting next year. Additionally, 100% expensing is scheduled to become 80% in 2023, 60% in 2024, and so on until it phases out. These scheduled changes could be modified, but it’s costly to the government to do so. Do these provisions affect you? Do they affect your customers?
Future tax rates can dramatically change the economics of a transaction.
Additionally, if corporate or small business tax rates were to go up, would your customer base become more likely to enter true leases over financings? Would they be more likely to finance vs. use cash? What does the interest rate environment mean for all these elements? Will you need to adjust your pricing to maintain your returns on an after-tax basis? For existing deals, the income that you thought was going to be taxed at 21% may end up being taxed at a higher rate; are there ways that you can adjust to that? Should you investigate the use of tax indemnification clauses in some of your contracts?
In closing, while taxes deservedly get a lot of discussion for the role that they play in acquisitions, most acquisitions are completed because the customer simply needs the equipment, and the tax implications are largely irrelevant to that decision. It’s also important to remember that even if tax increases occur, if they are used to fund infrastructure, there are opportunities at play in those verticals. Wise ELFA members will certainly be there to take advantage of those opportunities.
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EL&F magazine article
FUNDING & ALTERNATIVE FINANCE
TAX REFORM
Federal Insight
Column
2021